Disclosure of remuneration of directors

13.1 The J.J. Irani Committee had recommended comprehensive revision of the provisions of the Companies Act, 1956, relating to the payment of managerial remuneration, emphasising more on disclosures (both on quality and quantity), rather than providing limits or ceilings on managerial remuneration. SEBI, in its ‘Consultative Paper on Corporate Governance Norms in India’, noted that the remuneration paid to managerial personnel of companies in India, in certain cases, was much higher than the remuneration paid to their foreign counterparts. The paper also recommended the inclusion of disclosure requirements mandated under the Companies Act to be incorporated in the Listing Agreement.

13.2 The disclosure requirements under the Act include the obligation under Section 197(12), on a listed company, to disclose in the Board’s report, the ratio of the remuneration of each director to the median employee’s remuneration. In the process of public consultation, stakeholders termed this requirement to be tedious, and an incorrect comparison, especially in companies having a large workforce. Accordingly, it was suggested that this requirement be changed to either one of weighted average, or a comparison limited to the top three layers of the employees. However, it was felt that any change to an alternative will go against the rationale behind the disclosure requirement. There was no difficulty in reporting the number by itself; and it being an effective tool of measuring the spread between the highest and the lowest paid employees, it would serve a purpose of ensuring some check on managerial remuneration through debate. The Committee, therefore, recommended that the disclosure requirement may not be diluted.

Limits on remuneration

13.3 Section 197 prescribes that the total managerial remuneration payable by a public company shall not exceed eleven per cent of the net profits of that company and such limits may be exceeded with the approval of the shareholders and the Central Government. Section 197(3) provides that if a company has no profit or inadequate profits, the company shall not pay remuneration (excluding any sitting fees or other fees decided by the Board, to a prescribed limit) to its directors except in accordance with Schedule V, and in case it is not able to comply with the requirements, prior approval of the Central Government is required.

13.4 The Committee noted that the limits on remuneration payable by companies having inadequate/no profits prescribed in Schedule V to the Act, though increased as compared to the Companies Act, 1956, were still very low and insufficient to attract good managerial talent for turning around of such companies. Further, a restrictive regime of seeking Central Government and shareholders’ approval (by way of special resolution) for the payment of remuneration to Managerial Personnel by companies having inadequate/no profits would, apart from causing delays, also result in talented professionals moving away from such companies in search of higher assured compensation.

13.5 Currently, the law in countries like the US, the UK and Switzerland, does not require the company to approach government authorities for approving remuneration payable to their managerial personnel, even in a scenario where they have losses or inadequate profits and empowers the Board of the companies to decide the remuneration payable to Directors. The Committee, therefore, recommended that the Schedule may be amended to substitute the requirement to pass a special resolution by shareholders with an ordinary resolution, in cases where the managerial person was not a promoter, and a professional with domain knowledge / relevant experience; and was not related to any director or promoter of the company and did not hold more than two per cent of the paid-up equity share capital of the company or its holding company. In other cases, however, the requirement for special resolution of the shareholders should be retained. The Committee further recommended that the limits of yearly remuneration prescribed in the Schedule be enhanced. Further, the Committee also recommended that the requirement for government approval may be omitted altogether, and necessary safeguards in the form of additional disclosures, audit, higher penalties, etc. may be prescribed instead.

13.6 The Committee did not agree with the suggestion for changing the provision relating to deduction of remuneration of ‘directors’ to remuneration of ‘managerial personnel’ under Section 197(1) and Section 198(4)(b) of the Act. The principle has not undergone any change from the Companies Act, 1956, and such change might not be desirable.

Calculation of profits

13.7 The Committee examined Section 198 as to whether it has outlived its utility in current times where the Accounting Standards prescribe a robust framework for the determination of yearly profit or loss for the company, and the possibility of using the net profit before tax as presented in the financial statements, for basing the determination of managerial remuneration. Alternative formulations were considered, but found to be more complex, and further the present formulation is well accepted. Therefore, no change, other than on account of requirement of IndAS, was recommended.

13.8 Section 198(4)(l) mandates the deduction of ‘brought forward losses’ of the company while calculating the net profit, for the purpose of computing managerial remuneration in the subsequent years. However, the clause did not provide for the deduction of brought forward losses of the years prior to the commencement of the Act, which may be an inadvertent omission. The Committee agreed with the suggestion, and recommended the amendment of Section 198(4)(l), to include brought forward losses of the years subsequent to the enactment of the Companies (Amendment) Act, 1960.

13.9 Section 198(4) requires that while calculating profits for managerial remuneration, the profits on sale of investments be deducted. The Committee agreed to the argument that Investment Companies, whose principal business was sale and purchase of investments, would not be using the correct profit figures, and may need to comply with the requirements of Schedule V to pay remuneration to its managerial personnel. It was recommended, that specific provisions for such companies be incorporated in the Act.

Key Managerial Personnel

13.10 The J.J. Irani Committee observed that “stakeholders / Board look towards certain key managerial personnel for formulation and execution of policies.” It felt that such key managerial personnel must be recognised by the law, along with their liability, in appropriate aspects of the legislation. Section 203, read with the corresponding Rule requires every listed company, and every other public company having a share capital of Rupees Ten Crore or more, to have a whole time managing director or CEO or a manager, Chief Financial Officer and Company Secretary (companies having a share capital of Rupees Five Crore or more), who all have been named as ‘key managerial personnel’. The Committee opined that while the current provisions limit the officers who can be designated as key managerial personnel, flexibility would be desirable for companies to designate other whole time officers of the company as key managerial personnel. The Committee further recommended that the Board can be empowered to designate other whole time officers of the company as key managerial personnel and that the definition of key managerial personnel in Section 2(51) may also be accordingly modified.

13.11 At the same time, the Committee also recommended enabling a whole time key managerial personnel, holding necessary qualifications, to hold more than one position in the same company at the same time, so as to reduce the cost of compliance for such companies, and also to utilise the capacities of these officers to the optimum level.

13.12 It was suggested during the public consultation process, that an enabling provision for a company secretary, Chief Financial Officer, Chief Executive Officer to file his resignation with the Registrar, on lines similar to that for a Director under Section 168, may be provided for. As information about the appointment of these key managerial personnel is required to be filed with the Registrar, it may be argued that the registry and the public should be updated through filing of change due to resignation. The Committee, therefore, recommended that a company should also file information (similar to that for auditors) on the resignation of any of the KMPs in the Registry.

13.13 Section 203(3) provides that whole-time key managerial personnel shall not hold office in more than one company except in its subsidiary company at the same time. The Committee noted that Section 13 of the General Clauses Act, 1897 provides that ‘singular’ shall include the ‘plural’, unless there is anything repugnant in the subject or the context. Thus, whole-time key managerial personnel may hold office in more than one subsidiary company as per the present law. Accordingly, the Committee recommended no change in this regard.

13.14 Presently Schedule V requires that a Managing Director/Whole Time Director should have been resident in India for previous one year. The requirement prevents a foreign national to be a Managing Director/Whole Time Director unless he has stayed in the country for a year. The Committee recommends that, in order to draw on the larger pool of resources and increasing mobility of professionals/talent worldwide, this requirement may be done away with subject to satisfaction of other applicable regulatory clearances.